Fed Study Supports Community Banking

By Andy Meek

A new study out from the Federal Reserve Bank of St. Louis underscores one reason most banks in the Memphis area are smaller, community institutions.

Those are the ones with a model that cannot only survive but can thrive in good times and bad, according to the regional Fed branch. The Fed’s new study is “The Future of Community Banks: Lessons from Banks that Thrived During the Recent Financial Crisis,” written by R. Alton Gilbert, Andrew Meyer and Jim Fuchs of the St. Louis Fed’s banking supervision and regulation department.

Among its findings, the study shows that community banks that maintained high standards were able to consistently deliver strong performances when other banks either coasted or went bust. The secret to that reality is that even though the study focused on a five-year span between 2006 and 2011, the banks that performed well didn’t just do so during that period. It was a consistency that predated the slump.

“The community banks that will prosper in the future will have characteristics similar to those of thriving banks that performed well during the recent financial crisis and its aftermath,” the authors wrote. “The events of recent years can be considered a real-world stress test of the community bank business model.”

Layne McGuire, who leads the financial institutions services group in the Memphis office of Dixon Hughes Goodman LLP, agreed with the study’s findings and said factors that make community banking a strong model include local ownership.

“It’s been a good model, historically,” said McGuire, whose group at Dixon Hughes provides audit, tax and advisory services to banks and other financial companies including community banks. “With community banks, a lot of the reasons they work so well are the same reasons you find at other local businesses. They often have deep roots in the community, they know their business environment and their customers, and we have lots of examples of this in Memphis. Tennessee and Memphis both have done really well in this area of banking for many years.”

There are a little less than 7,000 community banks in the U.S., according to the Fed, and a few dozen in the Memphis area. The Fed study found “thriving” community banks in 40 out of 50 states, with most of those in states where the impact of the financial crisis was offset by strong agricultural and energy sectors.

The states with the highest percentage of thriving banks included Louisiana, Oklahoma and Texas. At the bottom were banks in mostly western and southeastern states – areas where real estate values plummeted the most in recent years.

The Fed study also considered other factors besides good bank performance, including the quality of the bank’s management and local economic conditions in the communities where the banks provide their services. To gauge that, the Fed interviewed bankers in addition to examining a sample of comments in thriving bank examination reports.

They found that thriving banks “featured strong and localized customer service focus with high community visibility,” according to the study. They operated in growing environments, practiced forward-looking risk management with an eye toward long-term bank performance, properly juggled the interests of both growth and risk and “had patient and conservative ownership that operated with the belief that returns on investments should be attractive, but not necessarily spectacular.”

“Overall, the study provides a window into those factors that enabled more than one-tenth of the nation’s community banks to not only operate in a safe and sound manner, but to do so in a way that ensured they continued to allocate credit in the communities they served,” according to the Fed.